Table of Contents
How to Understand Pips in Forex
The topic of this post: How to Understand Pips in Forex
What’s a pip?
How do you calculate its value?
Do you even need to bother understanding pips in forex?
How many pips do you really need per day?
These questions haunt every forex trader when starting out.
But, don’t worry, we’ve got you covered…
How to understand pips in forex: What’s a pip?
To start, you need to understand pips to trade forex successfully.
So, what’s a pip?
In forex, pip means ‘point in percentage’.
That sounds boring.
But it’s basically the smallest price change you can see in a forex pair.
Let’s look at EUR/USD, for example…
Pips in this forex pair are quoted to the fourth decimal place.
Imagine the exchange rate moves from 1.1859 to 1.860…
It means it has increased by one pip.
Some pairs are quoted to the second decimal place.
An example of this is USD/JPY.
A one-pip decrease in this pair corresponds to a movement from 110.16 to 110.15.
Why is all this important?
Pips directly affect your profit and loss when trading forex. You know you’re making money on a buy order if the number of pips is going up.
The reverse is also true when it’s going down.
OK, let’s dive deeper…
Standard, mini, and micro lots in forex
You can trade standard, mini and micro lots in forex. Obviously, if you’re trading standard lots, pips are worth more than trading micro lots.
Indeed, a standard lot allows you to take control of $100,000 worth of the base currency. You gain or lose $10 with every one-pip move when you’re trading a standard lot.
Mind you, you don’t need to start trading standard lots straight away.
Most forex traders trade mini lots…
Micro lots translate to a $10,000 volume trade.
Here every one-pip move is only $1!
But you’ll also get some brokers who offer micro lots.
These are $1,000 trades with a corresponding pip value of only 10 cents.
These are good for forex trading practice…
You can see why new forex traders like to trade micro lots as well.
Let’s move onto actual trade set-ups examples…
How to understand pips in forex: Calculating pip value
To start, say you made five pips or even 10 pips in a trade…
Is this a lot of money?
Or maybe you lost 20 pips on a bad call on GBP/USD…
Is that a significant portion of your trading account?
The answer is: It depends on the pip value.
Mind you, as we explained above, pip value isn’t constant.
It varies depending on the forex pair you’re trading, position size, and the exchange rate.
Let’s look at an example of EUR/USD…
Let’s assume you’ve closed a two lot buy order on EUR/USD after the price advanced by 20 pips…
You calculate the pip value by following these simple steps:
Step 1: Determine the price per pip of the quote currency.
$200,000 represents two standard lots.
Remember, when trading one standard lot, each pip represents $10.
A single pip movement is $20 in this case.
You can also just do a quick calculation…
$200,000 x 0.0001 = $20/pip
This is your pip value.
Step 2: Multiply the pip value by the total number of pips.
Using the same example, you would have made $400.
The calculation is slightly different if USD is the base currency.
Let’s look at USD/CAD.
Here we need the exchange rate…
Let’s set that at 1.2467.
A 3 lot trade that cost you 10 pips will have the following calculation:
Step 1: $300,000 x 0.0001 = CAD$30/pip.
Step 2: Convert the pip value to USD using the exchange rate:
1/1.2467 x CAD$30 = USD$24.06/pip
Step 3: Calculate the total profit/loss:
USD$24.06/pip x 10 pips = USD$240.60
That’s your loss in this trade.
BTW, the calculation works the same for mini and micro lots, using their respective values (i.e. $1 or 10 cents).
Why understanding pips is important in forex trading
Is it important to understand how to calculate the pip value?
Yes, it is!
Many forex traders underestimate the value of understanding how pips work.
But in our experience, it’s one aspect that’ll give you confidence when trading forex.
How else will you know the amount of money you’re risking with your 10-pip stop loss?
What if it’s more than 2% of your account?
You may end up blowing up your account and not even realising it.
Professional forex traders always have a handle on their pip game.
Why shouldn’t you?
Learning how to understand pips in forex is also a fantastic weapon in your armoury when thinking about leverage.
Pips and leverage
We said three things affect the pip value…
That’s the position size, the exchange rate, and the currency pair you’re trading.
Some – not all – forex brokers will offer you leverage of up to 500:1.
This doesn’t mean you need to claim it all.
In fact, you shouldn’t.
Leverage allows you to take up larger position sizes.
If you’ve got $1,000 in your account, it means you can trade a micro lot.
It’ll take 10,000 pips in the wrong direction to blow up your account with a pip value of 10 cents.
But the situation is quite different when you factor in leverage.
Let’s say you take up 100:1 leverage and enter a position for $100,000…
NEVER DO THIS!
The pip value is $10 for a standard lot size.
Mind you, your account size is still $1,000.
It’ll take only 100 pips in the wrong direction to wipe you out.
This can happen in a single session, mind you. So we suggest trading micro and mini lots to get the hang of things, before your start trading standard lots.
Your ‘Start With Forex’ Takeaway: How to understand pips in forex
Remember, successful trading starts with learning how to understand pips in forex.
You can plan your trades properly and ensure that you don’t blow up your account.
But the real question is: how many pips do you need to live a comfortable life?
We think 10 is enough…but 50 is the dream!
Just 10 pips a day, trading a standard lot, is $100 a day.
Mind you, $500 dollars a week might not sound like much to you. But it’s a huge amount of money for most people in this world and a nice second income. And, if you’re a consistently profitable forex trader, you can always trade more standard lots to make more profit.
Your ‘Start With Forex’ Takeaway: If you’re not consistently profitable, we suggest fine-tuning your skills by trading with micro lots. Make sure you’ve got a good strategy and are consistently hitting 10 pips a day before increasing your position size.
The 50 pips a day trading strategy book is also a good starting point. Note: the hyperlink is to another blog post which explains more about the book.
If you want to learn how to trade forex like a professional, start by reading our FREE forex course. Remember, there’s a million ways to make a million bucks in the forex markets. So if you want a head start in forex trading, alongside our free course, check out our approved products page for forex trading signals and systems to help kick start your trading.
To your trading success,
Start With Forex
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